Sunday, December 31, 2006

Hong Kong Mortgage Interest Rates

Christianpsu raised a query about Hong Kong interest rates in response to my post about the financing of my latest propety purchase (unfortunately this comment was inadvertantly lost along with a few other comments when I was cleaning up my blog).

For home buyers and small investors like myself, the Hong Kong market offers two main choices for mortgage finance:

1. a rate linked to the "prime" lending rate of the lending bank. Currently banks are offering rates mostly in the range of "prime - 2.5" to "prime - 3.0" percent. Some banks will offer a better rate for the first year but then a less attractive rate for the rest of the term. The prime rate is a floating rate which is set by the bank. While the bank has an absolute discretion to set its prime rate at whatever level it wishes, in practice the prime rates for all banks will be set at market driven levels. It used to be the case that every bank would have the same prime rate. That changed in 2006 with there being two different prime rates now used in the market. This can be confusing because it means that not all "prime" based rates are comparable - you have to check what prime rate is being used by each bank in order to compare the cost of different products;

2. a rate linked to the Hong Kong money market (known as the Hong Kong Interbank Offer Rate or HIBOR). Currently banks are offering rates mostly in the range of "HIBOR + 0.6" to HIBOR + 1.5". HIBOR linked rates are floating rates which are effectively set by the market. HIBOR interest rates are quoted for terms ranging from as short as one month out to as long as five years. In practice most banks will use the three month HIBOR rate as the default option.

Which is better?

My personal experience is that HIBOR based rates are better. The effective interest rate on my HIBOR linked mortgages has consistently been either about the same or lower than the prime based mortgages. There is no guarantee that this will continue in the future, but I have essentially concluded that HIBOR based rates with the shortest possible fixings (one month where offered - not all banks will do this) are the lowest cost product available. My understanding is that there are two reasons for this:

1. HIBOR rates are set by the market. Prime rates are set by the banks themselves. Needless to say the rate set in an open competitive market is more likely to be lower;

2. both HIBOR rates and prime rates tend to respond quickly to rising interest rates. Because of the fixing periods associated with HIBOR, it is a matter of luck whether a HIBOR based interest rate or a prime based interest rate will adjust upwards more rapidly. HIBOR rates tend to adjust downwards to falling interest rates quicker than prime rates.

At leats one bank (DBS) now offers a product that sets the interest rate based on the lower of a prime based formula and a HIBOR based formula. I came accross this for the first time when shopping around for my last mortgage in November.

This brings me to a final (and important) point. The Hong Kong banking system is awash with liquidity. The lending banks are competing quite intensively for business. It pays to compare offers from various financial institutions when looking to borrow.

7 comments:

Anonymous
said...

Thank you very much for the useful and helpful information. One point that might be useful to add: HIBOR has the risk of sudden increases according to market forces: it is a good idea when taking a HIBOR based mortgage to take one offering a cap. The DBS deal is a great one and I have taken it.Thanks again.

HIBOR is more volatile than Prime based mortgages but my experience to date is that HIBOR averages less than Prime. Right now the difference is between 0..31% and 0.14% (depending on exactly when the HIBOR loans were last fixed). While the HIBOR loans have typically (but not always) risen before the Prime loans the gap is not that great due to the fact that the HIBOR loans are reset every three months (I am trying to get them onto one month). Also, when rates go down, the HIBOR loans have consistently gone down much quicker than the Prime loans. The recent offerings set at the lower of HIBOR or Prime make this analysis less relevant than it once was.

I looked into getting a cap but found that the cost was too high to justify.

Do you think that it is still worth going with a HIBOR plan (the current date is 8 September 2009).

DBS is now offering HIBOR plus 0.7%. The cap is P - 2.75% = 2.5%. The cash rebate is 0.5%.

In contrast, HSBC is now offering a Prime only mortgage of P - 3% = 2%. The cash rebate is 1%.

Obviously it depends on your view on where HIBOR and Prime is headed. But since HIBOR is much more volatile than Prime, is it possible for HIBOR to move higher and therefore you hit the cap of P - 2.75% faster than you can derive the benefit when HIBOR is low ?

I would always prefer HIBOR over Prime. The difference is currently around 1.25% - 1.5% pa which is a lot. (maybe less - I was not aware that Prime mortgages had got so low).

HIBOR is more volatile, but it has to go up by more than the 1.25% - 1.5% before it becomes higher than Prime. I have only experienced this twice since I started using HIBOR mortgages (in 2004, I think). If HIBOR goes up by enough and for long enough to make HIBOR more expensive than current Prime rates it would be a fairly safe bet that the banks would raise their Prime rates as well.The cap obviously makes it harder for this to happen.

Remember that HIBOR is set by the market but Prime is set by the banks so would expect that most of the time HIBOR will be a better deal than Prime.

I had difficulty finding anything directly on point. However this paper from 2006 is helpful. If you scroll down to charts 3 and 4 you can get an idea of the historic spread between the Prime rate and HIBOR. The - number for the Prime based product and the + number for the HIBOR product would need to be factored in to work out the net spread: